Knowledge that Transforms

This study evaluates the relation between hostile takeovers and 17 takeover laws from 1965 to 2014. Using a data set of largely exogenous legal changes, we find that certain takeover laws, such as poison pill and business combination laws, have no discernible impact on hostile activity, while others such as fair price laws have reduced hostile takeovers. We construct a Takeover Index from the laws and find that higher takeover protection is associated with lower firm value, consistent with entrenchment and agency costs. However, conditional on a bid, firms with more protection achieve higher premiums, consistent with increased bargaining power.

We find evidence that chief executive officers’ (CEOs’) hobby of flying airplanes is associated with significantly better innovation outcomes, measured by patents and citations, greater innovation effectiveness, and more diverse and original patents. We rule out alternative explanations, leading us to conclude that CEO pilot credentials capture the personality trait of sensation seeking. Sensation seeking combines risk taking with a desire to pursue novel experiences and has been associated with creativity. Our evidence highlights sensation seeking as a valuable personality trait that can be used to identify CEOs who are likely to drive innovation success.

Private equity (PE) performance is persistent, with PE firms consistently producing high (or low) net-of-fees returns. We use a new variance decomposition model to isolate three components of persistence. We find high long-term persistence: the spread in expected net-of-fee future returns between top and bottom quartile PE firms is 7–8 percentage points annually. This spread is estimated controlling for spurious persistence, which arises mechanically from the overlap of contemporaneous funds. Performance is noisy, however, making it difficult for investors to identify the PE funds with top quartile expected future performance and leaving little investable persistence.

Using data on security holdings for 10,771 institutional investors from 72 countries, we test whether concentrated investment strategies result in excess risk-adjusted returns. We examine several measures of portfolio concentration with respect to countries and industries and find that portfolio concentration is directly related to risk-adjusted returns for institutional investors worldwide. Results suggest, in contrast to traditional asset pricing theory and in support of information advantage theory, that concentrated investment strategies in international markets can be optimal.

We show that chief executive officers (CEOs) of prestigious firms earn less. Total compensation is on average 8% lower for firms listed in Fortune’s ranking of America’s most admired companies. We suggest that CEOs are willing to trade off status and career benefits from working for a publicly admired company against additional monetary compensation. Our identification strategy is based on matched sample analyses, difference-in-differences regressions, and a regression discontinuity design. We perform several robustness checks and exclude many alternative explanations, including that firm prestige just proxies for better corporate governance or for increased exposure of the pay-setting process to media attention.

This paper proposes several frameworks to estimate the appropriate default correlations for structured products, each of which jointly considers the role of co-movements in modeled risk characteristics and unmodeled systematic risk, or ‘frailty.’ We contrast our estimates with credit rating agencies’ default correlation assumptions, which were only 0.01 for Collateralized Loan Obligations (CLOs) pre-crisis and have increased to 0.03 post-crisis. In contrast, the joint consideration of observable risk factors and frailty leads to substantially higher estimates of 0.12. We show that this translates into CLOs with credit risk understated by 26%, suggesting caution for the post-crisis structured finance market.

Why do diversified firms hold significantly less cash than focused firms? We study this question using a dynamic model of corporate investment, saving, and diversification decisions. We find that investment dynamics are more important in explaining the cash differences than financing frictions. More efficient internal capital markets increase cash differences and are especially valuable when a firm diversifies or refocuses. Contrary to static models, more diverse conglomerates have lower cash differences. Endogenous selection (diversifying firms are larger and have better growth opportunities) accounts for 68% of the cash difference, and the diversification event itself reduces cash holdings by 32%.

I examine the link between political uncertainty and firm investment using U.S. gubernatorial elections as a source of plausibly exogenous variation in uncertainty. Investment declines 5% before all elections and up to 15% for subsamples of firms particularly susceptible to political uncertainty. I use term limits as an instrumental variable (IV) for election closeness. Because close elections are related to economic downturns, I find that the effect of close elections on investment is understated by more than half by ordinary least squares (OLS). Post-election rebounds in investment depend on whether an incumbent is re-elected. Finally, I provide evidence that firms delay equity and debt issuances tied to investments before elections.

We show that analyst coverage proxies contain information about expected returns. We decompose analyst coverage into abnormal and expected components using a simple characteristic-based model and show that firms with abnormally high analyst coverage subsequently outperform firms with abnormally low coverage by approximately 80 basis points per month. We also show abnormal coverage rises following exogenous shocks to underpricing and predicts improvements in firms’ fundamental performance, suggesting that return predictability stems from analysts more heavily covering underpriced stocks. Our findings highlight the usefulness of analysts’ actions in expected return estimations, and a potential inference problem when coverage proxies are used to study information asymmetry and dissemination.

This study shows that initiation of credit default swap (CDS) trading for an entity's debt increases the share of loans retained by loan syndicate lead arrangers and increases loan spread. These findings are consistent with CDS initiation reducing the effectiveness of a lead arranger's stake in the loan to serve as a mechanism to address the adverse selection and moral hazard problems in the loan syndicate. Additional findings corroborate this interpretation by revealing a moderating effect for firms with greater transparency, for loans originated by a lead arranger with a strong reputation in this market, and for firms with relatively illiquid CDS markets.